Financial Planning: Getting Smart About The SECURE Act, Part 1

Commentary

It seemed inevitable that the SECURE Act would eventually make it out of legislative limbo. In May, the House of Representatives passed the bill, officially known as the Setting Every Community Up for Retirement Enhancement Act of 2019, by a remarkable 417-3 bipartisan majority.

While that kind of political momentum is difficult to oppose, the bill's progress had been stalled by a small group in the Senate. You can read more about that in my column from Oct. 3.

The impasse came to an end late last week. After a fair amount of political wrangling, the SECURE Act's sponsors succeeded in attaching it to the year-end appropriations bill. Anxious to avoid a government shutdown, both houses of Congress quickly passed the appropriations bill last Thursday and President Trump promptly signed it into law on Friday. The SECURE Act becomes effective Jan. 1, 2020.

If you have retirement accounts, the SECURE Act is going to affect you. Here are three key provisions you should understand.

Perhaps the biggest change made by the SECURE Act is the elimination of the stretch provision for most inherited IRAs. Under the previous law, beneficiaries could stretch the required distributions from an inherited IRA over their remaining lifetimes.

However, under the SECURE Act, beneficiaries who inherit an IRA beginning on Jan. 1, 2020, will be subject to something called the 10-Year Rule. Under the 10-Year Rule, all inherited retirement accounts must be fully distributed by the end of the 10th year following the year of inheritance. This rule applies to all types of inherited IRAs, including Roth accounts.

In one sense, the new law gives the beneficiary some additional flexibility in the early years after inheriting because no distributions are required until year 10. However, most people will find that the additional flexibility is small compensation for the loss of the lifetime stretch.

Four types of beneficiaries are granted exceptions to the 10-Year Rule. These include: spousal beneficiaries, disabled beneficiaries, chronically ill beneficiaries, individuals who are not more than 10 years younger than the decedent, and certain minor children of the original retirement account holder (until they reach the age of majority). For minor children, the 10-year clock begins once they reach the age of majority. Exempt beneficiaries will continue to stretch their IRA over their lifetimes as they do under current law.

The SECURE Act also increases the age when people begin taking required minimum distributions from 70 ½ to 72. This law affects all those who turn 70 ½ in 2020 or later. If you are already 70 ½ or older, your RMDs continue according to the old rules.

Interestingly, the new law still allows IRA holders to make Qualified Charitable Distributions (QCDs) of up to $100,000 from their IRAs beginning in the year they turn 70 ½. Before IRA holders turn 72, the QCDs have no bearing on their required minimum distributions.

A third major change made by the SECURE Act is the elimination of age-based prohibitions for contributing to a traditional IRA. Under the previous law, individuals over 70 ½ years of age were unable to contribute to traditional IRAs.

Under the new law, individuals with earned income can contribute to traditional IRAs regardless of age. The situation becomes a little more complex when individuals make QCDs and contribute to traditional IRAs. In that case, the current year QCD will be reduced by the amount of cumulative post-70 ½ IRA contributions that have not already been used to offset previous QCDs.

Further that she has earned income and also contributes $5,000 into her IRA in 2020. Under the terms of the SECURE Act, her $10,000 QCD in 2020 will be reduced by the $5,000 she contributes to her IRA in 2020. In other words, $5,000 of her 2020 QCD will be recorded on her tax return as a taxable withdrawal from her IRA.

The SECURE Act contains numerous other provisions. We will take a closer look at some of those next week.

Steven C. Merrell is an investment adviser and partner at Monterey Private Wealth Inc., in Monterey. Send questions concerning investing, taxes, retirement or estate planning to Steve Merrell, 2340 Garden Road Suite 202, Monterey 93940 or [email protected].